Deng Undone

The global crisis has prompted a great deal of talk about China.
Most of it, however, starts from a faulty premise: that the
People's Republic is still moving toward a market economy. In fact,
late 2008 marked the 30th anniversary of the beginning of market
reforms - and perhaps the third anniversary of their ending.

Since the present Communist Party leadership took power, fresh
market-oriented liberalization has been minor. Such policies have
been wound down and supplanted by renewed state intervention. In
privatization, prices and even foreign trade and investment, the
PRC was heading away from the market well before the financial
crisis erupted.

privatization of the corporate sector was stalled at first, then
explicitly reversed. Initiatives to increase corporate competition
are also being rolled back. The sale of minority stakes at home or
overseas does not alter state ownership and control. Indeed, all
national corporations in the sectors that make up the core of the
economy are required by law to be under state control.

The state exercises control over most of the rest of the economy
through the financial system. The state owns all large financial
institutions; the People's Bank of China assigns banks loan quotas
every year; and lending is directed according to state priorities,
topped by favoritism for large state enterprises.

Beijing has also halted progress in price liberalization made
during the first two decades of reform. Liberalization of the price
of goods has been dealt a blow by greater state interference in
energy and food. The People's Bank still sets compulsory and narrow
ranges for both the price of domestic money (the interest rate) and
the price of foreign money (the exchange rate).

The state is encroaching even on the relatively open external
sector, sharply restricting incoming investment. Touted as
"reform," for instance, the anti-monopoly law explicitly excludes
the state giants and appears to apply only to foreign companies
such as Coca-Cola.

Market reform has died in part because -- rhetoric aside - the
Party has pursued G.D.P. growth above all else. Before the
financial shock, while G.D.P. growth was still in double digits and
inflation was climbing toward double digits, Beijing was still
stimulating the economy through negative real interest rates,
making borrowing from banks effectively free.

When inflation began to ebb due to the crisis, the central
government further opened the fiscal taps. Eight percent G.D.P.
growth is now seen as weak and 25 percent investment growth
inadequate. Ensuring blistering expansion requires more and more
state-directed investment, which dominates economic activity.

Whether this is a good idea depends on whether a country can
indefinitely spend 25 to 30 percent more every year without
crippling waste and a warped, fragile economy. All bubbles must
eventually pop; additionally, China's focus on heavy industry
continues to cause irreversible ecological destruction.

The growth obsession has its benefits, of course. China's
remarkable economic performance over the past three decades has
made it a global player. Most important, rapid G.D.P. gains have
created jobs: at the end of 2008, despite the crisis, the official
unemployment rate for urban residents was 4.2 percent, beating the
ambitious target of 4.5 percent. This success has made the Party
increasingly resistant to foreign pressure for economic reform.

The Obama administration's choices of how to engage Beijing on
economic issues are thus difficult. Some American goals fly in the
face of the Chinese development model and very little progress
should be expected, at least until the flaws of the model become
apparent to the Party.

Despite the obstacles, true market reform must remain America's
ultimate aim. Otherwise, Beijing will continue to adopt policies
unpalatable to the United States and ultimately unsustainable in
the international context. In the absence of reform, serious
U.S.-China economic conflict is inevitable.

Initial negotiations will be like pulling teeth. But a
consistent, patient stand will greatly speed the process once the
Party is again open to market reform. Fortunately, a framework for
engagement already exists: the recently renamed Strategic and
Economic Dialogue.

In these talks, Washington must have realistic objectives in
light of actual Chinese policy. For example, rather than asking for
sweeping privatization, the administration should seek a formal
commitment that Beijing will open state-dominated companies to
foreign investors, with reasonable limits. A long-term, explicit
timetable -- formulated by Beijing -- for liberalizing exchange
rates, interest rates and domestic energy prices would recognize
the process is necessary but will not be rapid.

President Obama will need to work hard to move China back in the
right direction, but the alternative is a progressively and
dangerously worse economic relationship.

Derek Scissors
is a research fellow in Asia economic policy at the Heritage
Foundation.

Share

The global crisis has prompted a great deal of talk about China. Most of it, however, starts from a faulty premise: that the People's Republic is still moving toward a market economy. In fact, late 2008 marked the 30th anniversary of the beginning of market reforms — and perhaps the third anniversary of their ending.

Rep. Peter Roskam (R-IL) says it's "a great way to start the day for any conservative who wants to get America back on track."

Sign up to start your free subscription today!

Sorry! Your form had errors:

About The Heritage Foundation

The Heritage Foundation is the nation’s most broadly supported public policy research institute, with hundreds of thousands of individual, foundation and corporate donors. Heritage, founded in February 1973, has a staff of 275 and an annual expense budget of $82.4 million.

Our mission is to formulate and promote conservative public policies based on the principles of free enterprise, limited government, individual freedom, traditional American values, and a strong national defense. Read More